Gun company stocks hard to avoid

It's an issue that some politicians and gun-control advocates are raising after recent mass shootings prompted calls for tougher laws.

Chicago Mayor Rahm Emanuel wrote letters to six mutual fund companies asking them to sell their stock in gun manufacturers Smith & Wesson, and Sturm, Ruger & Co. It's a critical concern in Chicago, where more than 500 people were murdered last year.

Fund companies should "send a clear and unambiguous message to the entire gun industry that investors will no longer support companies that profit from gun violence," Emanuel wrote in his letters last week.

Other city leaders, including those in Los Angeles and Philadelphia, are considering similar steps with their pension funds.

Gun control is the kind of issue that can wake investors up to the fact that money in a fund portfolio or 401(k) affects more than just their retirement security. The financial markets support all kinds of companies, including many that an investor may believe aren't contributing to the greater good.

But whatever one thinks about gun control, removing such an investment from a portfolio on moral grounds isn't always a simple matter. There are potential costs from putting your principles before profits.

Recognize that over the last 10 years Smith & Wesson has posted an average annualized return of 17 percent, compared with the 8 percent return of the broader market. Similarly, Sturm Ruger, the largest publicly traded gun company, has returned an annualized 23 percent over that time.

There would be other potential costs if fund companies or 401(k) managers were to sell gun maker stocks in response to the recent controversy. These companies have obligations to serve the financial interests of vast numbers of individual fund shareholders and plan participants with varying opinions about guns.

For employers sponsoring 401(k) plans, their hands can be tied unless the plan established a mandate to avoid investing in gun makers, says Kathleen McBride, founder of consulting firm FiduciaryPath.

Making changes only gets more complicated with low-cost index funds, which own all the stocks in a given market index.

For example, Vanguard is the biggest manager of index funds, and its $5.4 billion Small-Cap Index Fund (NAESX) is the largest fund owner of Smith & Wesson shares, according to Morningstar.

The fund, a common investment option in 401(k) plans, recently held 1.6 percent of Smith & Wesson's outstanding shares. But that stock made up just 0.04 percent of the fund's total assets, because the fund owns more than 1,000 stocks in the small-company index that it tracks.

So how might an investor avoid any links to gun makers in a portfolio?

If you prefer low-cost index investing but don't want to invest in guns, choose funds that track large-company indexes. Smith & Wesson and Sturm Ruger aren't big enough to be included in those large-cap indexes.

If you want active management, check the fund's latest holdings online for any gun stocks. Chances are small that you'll find any, but be aware that the manager could invest in them at some point, unless the fund has a specific mandate to avoid gun makers.

Or, better yet, invest in funds that explicitly avoid certain stocks based on moral criteria. Some larger fund companies, including Vanguard, offer funds that seek to invest based on social objectives. And dozens of smaller companies specialize in socially responsible investing, offering funds that screen out everything from gun- and tobacco-related stocks to companies that charge interest on loans. There are also lower-cost funds that track indexes of stocks limited to those deemed socially responsible.